Boom Of Alternative Investments When Market Is Volatile
Anyone who has embarked on the journey of planning their personal finance in India would have seen the transition of investing patterns from traditional fixed income securities like fixed deposits to Market-based securities like mutual funds, ETFs, and stocks. While personal finance in India mainly looms around these traditional investment options like stocks, mutual funds, bonds, and FDs, retail investors are missing out on a lucrative, creative, and non-market-linked investment class known as Alternative Investments.
As the name rightly suggests, Alternative Investments are investment opportunities that do not fall into conventional investment classes like stocks, bonds, FDs, and cash. This separate asset class includes a wide range of investment opportunities right from real estate, commodities, and antiques to venture capital, private equity, interim financing (known as DIP), and litigation financing. These investment opportunities are mainly pursued to diversify and manage the risk associated with one's portfolio. Now anyone with a good understanding of passive investing could ask, aren’t my mutual funds and ETFs serving the same purpose?
Well, the answer is Yes and No.
When people invest in mutual funds they primarily invest in a basket of stocks, picked with a common objective. At the end of the day, they are only diversifying their risk associated with the asset class i.e., the investor is only mitigating the unsystematic risk associated with that particular industry. But, what if a recession looms over the entire economy and the investor has to face a systematic risk? In this case, mutual funds aren’t of much help to diversify one’s portfolio. Investors need something which is out of the market sentiments. Something as simple and standard as GOLD. Alternative investments have a low correlation with the standard asset classes, this low correlation indicates an opposite trend in alternative investments with respect to the standard asset class. As a result, alternative investments aid in better hedging investors' portfolios whenever traditional asset classes fail to perform.
The following modern alternative investment avenues serve as a hedge against the downtrend of the markets by offering high returns which are not linked to the cyclic uptrends & downtrends of the market:
Litigation financing:
Litigation Financing is a practice where a litigant can ask a third party to fund his/her legal cost on a non-recourse model where he/she only has to pay a portion of the proceeds if the action is successful. This alternative investment opportunity has been particularly famous in the western economies delivering IRRs up to 40-50% to the investors, more than 70% of US businesses use this type of financing to fund their lawsuits. Litigation financing offers the potential for earning significantly higher returns than traditional investment avenues, and it is not subject to stock market volatility.
Interim Financing aka (Debtors-in-Possession):
In simple terms, Interim Financing is super-senior short-term financing for an asset-heavy business, solely for the insolvency process. It is known as Debtors-in-Possession in the Western economies and is a fairly new venture in India as compared to western economies. During the insolvency process, a few payments like workers’ compensation & maintenance charges are vital for protecting the assets of the company and cannot be kept on hold until the approval of the resolution plan. In such cases, this financing is used to keep the company afloat as a going concern entity and Interim Financiers are the first ones to be paid back as per the Insolvency & Bankruptcy Code (IBC 2016) when the resolution plan is approved. Even in the worst case of liquidation where the assets of the company are sold off to pay back the CIRP (Company Insolvency Resolution Process) costs & creditors' claim, the first flow of funds from the sale of the assets is paid to the Interim Finance providers. Hence, this alternative investment source is one of the best choices for investors seeking high returns of 20-25% in a short-term tenure with their funds parked in safe havens.
These asset classes provide great options to diversify one’s portfolio and it also helps to generate constant passive incomes, making them useful for retirement planning, and risk management. With growing investment opportunities, investors should carefully analyze their investment goals, risk appetite, and the duration of their investment, before investing in any of these alternatives. Since most of these alternatives are high-risk-high reward investments, there are no safeguards against many risks, since these options are not highly regulated like the standard investment opportunities; therefore, a little caution can go a long way.